US refiners' ability to meet federal requirements for renewable fuels will be strained for the rest of 2012. But that's nothing compared with what they face in 2013, according to a recently updated analysis of grains and ethanol by Dallas consulting firm Muse Stancil & Co.
Severe drought since late spring in the largest corn-producing US states caused the US Department of Agriculture in early July to slash its earlier forecast for a record corn harvest. And since then, the drought has only worsened.
What had been earlier this year a comfortable margin for refiners and blenders between corn-based ethanol and motor gasoline prices has now nearly evaporated, due the much higher corn prices resulting from the worsening drought.
The update to the grains and ethanol forecast, according to Tod McGreevy, MSC vice-president and practice leader, commercial development, reflects the impact of drought on this year's corn crop, expected ethanol prices through summer 2013, and the trading credits—known as renewable identification numbers (RIN)—in the US government's renewable-fuels program.
Record forecast
What once appeared to be the largest corn crop in history is under severe threat. In spring 2012, US farmers planted more corn than at any time since 1937. This increase in acres planted and great growing conditions led USDA in late spring to forecast a total harvest of 14.8 billion bushels, a production level that would have surpassed the previous record by nearly 2 billion bushels.
By midsummer, however, about 53% of the US was suffering moderate to exceptional drought. Midwest and Great Plains states have been among the worst hit as 73% of Midwest states and 85% of Great Plains states were suffering moderate or worse drought.
The outlook is for drought to persist and perhaps intensify well into autumn. All 10 of the largest corn-producing states lie in the affected region.
In early July, USDA slashed its corn production forecast by 1.8 billion bushels, but unfortunately the drought has since intensified precisely when it could cause the most damage. MSC forecasts 2012 corn production of 10 billion bushels, well below USDA's current guidance.
Ethanol reductions
The study said current corn stocks from the 2011 harvest are insufficient to offset the expected loss in 2012. On the assumption that sharply higher corn prices will force large reductions in exports and livestock feed, the ethanol industry must reduce production for 2012 by roughly 2 billion gal (a production ceiling of 12 billion gal total for 2012) in order to balance the remaining corn supply with demand. This will result in a shortfall of 1.2 billion gal compared with the 2012 Renewable Fuel Standard's volume requirement.
Despite these reductions, corn stocks in 2013 would remain "uncomfortably low" by historical standards, providing solid underlying price support for both corn and ethanol markets.
The study finds the current RIN market for renewable fuel more than adequately supplied. The US Environmental Protection Agency shows that nearly 3.5 billion RIN were carried over from 2011. Of the total carryover of 2011 RIN, however, only about 2.7 billion could actually be applied due to the restriction that no more than 20% of the total renewable fuel volume can be satisfied with carryover RIN in any given year.
Unfortunately, the study concludes, dipping so heavily into this year's RIN supply will likely leave very few carryover RIN for 2013. Absent federal intervention next year, says the study, refiners and blenders will have to satisfy their renewable fuel requirements with physical volumes. The RFS volume for conventional ethanol in 2013 is set at 13.8 billion gal and would largely be produced from this year's diminished crop.
Ethanol prices likely will closely track corn prices rather than gasoline, according to McGreevy. Corn has recently been trading at or near record highs at many locations with little relief in sight. It is possible that ethanol prices could trade at a premium to gasoline through the end of summer 2013 (contingent on next year's crop yields returning to trend and absent federal intervention).